What if your stock has hit the FII investing limit?

Despite the lacklustre state of the Indian economy and corporates, foreign investors have not stopped pumping money in the domestic stock market. Last year, FIIs poured in Rs 1.13 lakh crore, and after the September quarter, the FII ownership in Indian stocks is at its highest level. The aggregate holding of FIIs in the benchmark Nifty companies was 17.69 per cent in the September quarter, compared with 16.19 per cent in the same period last year. Should this be good news for local investors? On the contrary, the situation may have come to a head.

Impact of FIIs

It is no secret that the inflow of foreign money is largely responsible for determining the direction of not only individual stocks, but also the Indian equities as a whole. When FIIs lose interest and pull out, the domestic markets, typically, tank. Conversely, when FIIs invest huge amounts, a massive bull run is likely to follow.

Hence, investors need to be aware of FII activities. They mostly invest in the frontline stocks that constitute the Nifty or Sensex. Given this narrow universe of stocks, FII ownership in this basket has now become bloated. Currently, FIIs own huge stakes in prominent blue chips. In the September quarter, the FII stake in companies such as Axis Bank, M&M, HCL Technologies, Tata Power Company, NTPC, Wipro and Sun Pharma hit a record high. In fact, FII ownership in many frontline stocks like ITC and TCS is close to hitting the ceiling.

Currently, the ceiling for overall investment by FIIs is 24 per cent of the paid-up capital of an Indian company (20 per cent in the case of public-sector banks). However, the actual ceiling can be much higher for some companies as it can be raised to the sectoral cap or statutory ceiling. The Reserve Bank of India monitors the ceilings on FII investments in Indian companies on a daily basis.

If the limit is breached

Once the FII ownership reaches a trigger point, which is 2 per cent below the overall limit, the RBI cautions all designated bank branches about purchasing any more equity shares of the said company on behalf of FIIs without its approval. The RBI then gives clearances on a first come, first served basis till the FII investment reaches the ceiling. Thereafter, the apex bank advises all designated bank branches to stop further purchases on behalf of their FII clients.

This may have a negative impact on the affected company’s shares. Since such companies cannot absorb an incremental FII inflow beyond a point, it puts in doubt the upside potential of their stocks. It can also lead to a sell-off by investors. Says Saibal Ghosh, CIO, Aegon Religare Life Insurance: “Quality companies will increasingly become a scarce commodity for FIIs. The limited supply will be a problem for them.” In November last year, the shares of Titan Industries, an old favourite among investors, tanked 6 per cent over two trading sessions after the RBI put a cap on further FII investment when the ceiling was reached.

However, Yogesh Nagaonkar, vice-president, institutional equities, Bonanza Portfolio, dismisses the idea of a negative impact on stock prices in such a situation. “Even if the FII limit remains unchanged and they are unable to invest further, domestic institutions like mutual funds and insurance giants like LIC can step in to support the prices,” he adds. Concurs Kenneth Andrade, head, investments, IDFC Mutual Fund: “Ultimately, if the company continues to do well, it will attract investors, be it FIIs or domestic buyers. If the company grows its profitability, its price will also increase. FIIs invest on the same premise.”

Emerging opportunities This situation may not last too long because companies are likely to increase the FII holding ceiling to facilitate further inflow. Ghosh insists that there is no other option for these companies. “They have to open the doors for FIIs,” he says. This potentially presents some opportunities for investors.

In fact, several companies have already made the necessary adjustments or sought approval to do so. Idea Cellular has hiked its FII limit to 49 per cent. Its current ownership stands at 17.95 per cent of its paid-up capital. Similarly, Dabur India has raised its limit from 21 per cent to 30 per cent. The government also recently gave its nod to Axis Bank to raise its FII investment ceiling from 49 per cent to 62 per cent. Power Grid Corporation of India, Tech Mahindra and HCL Technologies are other examples.

In all these cases, share prices jumped as investors hailed the news. One can expect more companies to hike their respective FII limits soon, subject to the approval of the board and the passing of a special resolution to this effect by the shareholders of the company. Does this really make for a good opportunity for investors? Nagaonkar believes there is a huge scope for a jump in prices in some of these stocks. “The potential for a run-up is quite strong if the limit is hiked, more so where the approval for the same is still pending,” he says. However, he adds that even if the limit is not raised, there is enough strength in these frontline stocks to sustain the prices.

Ultimately, as Ghosh asserts, investors should focus on the company’s fundamentals while investing in stocks. “In the long run, these technical issues will be sorted out,” he says.